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What Do Surging Nickel Prices Mean for Vale and BHP Billiton?

Nickel prices, which were under tremendous pressure last year due to oversupply of the metal amid tepid industrial demand, vaulted above $20,000 per ton at LME in the preceding week after the Brazilian mining giant, Vale (NYSE: VALE  ) decided to suspend nickel production activities at one of its facilities. On Monday, nickel prices surged another 8%. Nickel prices were battered in 2013, however they are up more than 50%, so far this year. The sharp rise in nickel prices is mainly due to supply concerns. In addition, nickel buyers and steel producers in China and Japan are scurrying to build up the stocks of both the refined metal and nickel ore, which has further strengthened prices. The likes of Vale, BHP Billiton (NYSE: BHP  ) , and Norilsk Nickel (NASDAQOTH: NILSY  ) will benefit from this trend.

Vale's production suspension and concerns over long-term supplies
Earlier this month, Vale halted production at its Goro nickel mining and processing facility located at New Caledonia. Officials said that the plant witnessed an acid leak, which contaminated a nearby river. Local authorities, which found the leakage 'very serious' in nature, immediately asked the plant to suspend production. According to the Company's spokeswoman, Vale is now waiting for the local authorities to review the situation. Although the plant has a production capacity of only 60,000 metric tons, fears of acute shortage have rattled everyone given the fact that the nickel market is already expected to run into a deficit in 2015 following Indonesia's decision to ban nickel ore exports.

Morgan Stanley expects a deficit of 60,000 tons in 2015 following a surplus of 70,000 tons in 2014 and 173,000 tons surplus in 2013.

Nickel buyers stockpiling, prices soaring
As I noted in a previous article Macquarie Bank estimates that Indonesia's decision to ban nickel ore exports will cut the global supply by 25% or 482,000 tons. Accordingly, both major nickel consumers, China and Japan, have been stockpiling nickel ore since February, fearing supply cuts.

Not surprisingly, the metal jumped 25% by April due to supply concerns even as Goldman Sachs last month estimated that the shortfall could push the metal prices toward $20,000 per ton level.

Well, it didn't take very long for nickel to reach $20,000 per ton. Three-month contracts on the London Metal Exchange crossed this level last week for the first time in more than two years. On Monday, the three-month contract rose as high as $21,468 a ton.

China and Japan have been stockpiling both refined metal and iron ore contracts, a fearing supply squeeze in the long run. China, which has just enough raw nickel inventories to last till the end of the year, has been importing large amount of both refined nickel and ore to support higher seasonal demand.

Nickel ore imports from the Philippines have also increased substantially. According to Reuters, prices of nickel ore from the Philippines have more than doubled after Indonesia banned ore exports from mid-January. However, while the Philippines is a viable sourcing alternative, its low-grade ore will push up production costs for Chinese nickel pig iron smelters. In addition, the country's ore production capacity is only 500,000 tons a month. In 2013, Indonesia had exported 45 million tons of high grade ore to China.

Stronger prices to benefit Vale, BHP
Vale, which is one of the major producers of nickel, is expected to benefit from stronger nickel prices. Vale recently noted that it expects prices to keep trending upward into coming quarters, given that Indonesian ore export ban is expected to go on for the foreseeable future. Indeed, the stronger nickel prices will help the company offset some of the weakness in the iron ore market.

BHP Billiton will also benefit from stronger prices. BHP is looking to offload its nickel assets and robust outlook for prices will certainly help the company fetch a higher valuation.

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Varun Chandan

I have a Master in Finance degree from IE Business School in Madrid. I use the top-down approach when it comes to investing. I like to analyze macroeconomic factors and how they impact individual companies.

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